Bankers' bonuses

We should support performance related pay

Bankers' bonuses have dominated the headlines since the financial crisis.  Today brought two interesting stories.  Firstly, the EU has agreed in principle a deal to cap bankers' bonuses at two times salary.  Secondly, RBS  (which is 82% owned by the taxpayer) announced it lost £5.17bn in the last year yet will pay out bonuses totalling roughly £600m, with £210m of that going to investment bankers.¹

No doubt, the move by the EU will cause cheer in the popular press.  However, it has been widely documented that as curbs on bonus payments have been introduced, banks have increased base salaries instead.  For any given pay package, taking more of it as salary and less as bonus makes a banker better off, as they face less uncertainty about their (very high) pay.  It also means that poor performing bankers cannot be so easily punished by lower-than-expected pay.

The public finds the 'bonus' word so toxic in the case of losses because they assume a bonus must be a  reward for doing well.  Why could it make sense to have any reward when a bank makes a loss?  In reality, the city operates on the basis that employees loosely expect a bonus of a given size, which is increased when there is good performance, and decreased when there is bad performance.  So a positive bonus can still translate into a punishment for poor performance, if it is below expectation.

This regulation reduces banks' ability to operate under such a performance-related system.  There may be good reasons for that, if bonuses are incentivising traders to take harmful risks.  Nonetheless, the regulation has the potential to make bankers better off by giving them more no matter what happens - and this is not a point you will find discussed much in the press.

In the RBS case, the devil is in the detail.  Most of the loss came from an accounting charge of £4.65bn due to the "fluctuating value of its own debt and derivative liabilities", according to the FT.  The operating profit was £3.46bn, up from £1.82bn a year ago.  And guess what?  Markets & International Banking - the investment banking arm - contributed £2.1bn to that.  Do bonuses totalling £210m still look so unreasonable?

An aside:  it always bothers me how bonuses are reported on a total rather than per-employee basis.  For those who are interested, the RBS results show 15,600 employees working in the Markets and International Banking divisions. Assuming the BBC's quoted bonus figure of £210m for investment bankers (see footnote 1), that works out at an average bonus of roughly £13,500.

1. I have taken the number for the bonus payout for investment bankers from the BBC.  However, my numbers on operating profits and headcount are from the RBS annual statements.  I am assuming the "investment banking" arm to be the International Banking and Markets divisions combined, but it is possible that the BBC has used a different definition.